Transcription
[Music]
All right, welcome back, everybody. It's my honor to introduce our next speaker for today, Tom Bosso, who is featured in Newmarket Wizards and dubbed "Business Serenity" by Jack Swagger himself. I've spoken with Tom multiple times over the past year or so, two different interviews, and enjoyed every single minute of them. So, I'm really looking forward to this. Tom, so thank you so much for being a part of this.
Thanks, Richard, for inviting me. I'm I'm going to have a good time today because I'm going to cover a few things I've never covered before. I'm trying to keep myself amused and I want to, you know, go over, uh, already beaten down paths that I've talked about before. So, I called this one "The All-Weather Trader."
I feel like with a lot of the comments that Twitter is throwing out these days, all the traders on Twitter and on Facebook and all that, and some of the questions I get, I have a sense that a whole lot of people are trying to figure out where the bottom of the bear market is. I feel like they've been beat up, they don't know quite what to do, many don't have any plans. And I've kind of cruised through the whole year and I thought it might be useful to traders to to hear some of the tricks I use in real life to create, uh, what I would call an all-weather trading program or or to be an all-weather trader that I consider myself.
So with that, why don't I jump right in here and we'll start covering some of these actual real-life topics that I use every day that has allowed me to just go through the bear market and not change the darn thing I'm doing every day and cruise through it.
Yeah, perfect. Let's dive in. So let's start with the universal investment objective: "Make as much money with as little risk as possible." And that's kind of what I hear a lot of people trying to shoot for all the time. But when risk does visit, if you look at the risk and reward side of that thing, that's when the strategy gets abandoned. If you, if you figure out why that happens, you can see it in a lot of people's tweets. The mentality that you have towards your trading is far more important than the trading technique because as the human being that owns the account and owns the money, you can always panic and shut it all down. So if you don't consider mental the most important, you're you're kidding yourself because I don't care how much time and money you spend on trying to figure out how you're going to trade, you can screw it up yourself if you if you, uh, feel like the need to do so.
So what we're going to do is try to create some strategies to help the mentality of the whole situation and get you a little closer to being Mr. Serenity. This I have to credit a guy, a good friend of mine now, Lawrence Ben-Storm, who wrote the book, I think it's called "Automating Your Stock Portfolio." And I love the book because it's the best book I've read on multiple systems trading and automating that. And he has a term called "filling the potholes" that I think is so cute.
I took a just a picture of the Dow Jones Industrials here from barchart.com and I tried to gray in what I consider to be the potholes. And you can see they're just the drawdowns. Whenever you have a drawdown, you're in a pothole. If you could figure out a way to design your strategies to try to minimize or fill those potholes, life's going to be a lot easier. And that's what we're, that's what I'm striving for. I'll talk a little bit later about those that are striving for something else.
Here's a complete trading strategy flowchart. And I know Richard, you said you got recordings of this that are going to be able to be referred to. So trying to write all this stuff down would be kind of difficult, but let's go over it real quickly and why I feel important that it's important to have all of these little boxes. You got to start with perhaps some simulations. You have to figure out what you're going to trade over here on the right side. So you've got correlations and how are you going to diversify your portfolio? You've got to somehow screen those, you know, sometimes thousands of different instruments that you could trade. You still might have too many at that point. So somehow you maybe have to rank them to figure out which are your hit list. Now you have your portfolio selection done. And, uh, over here, you got various buy and sell engines. There's probably a hundred or more out there on investopedia.com that you could pick from. Uh, so now you've got a portfolio and you've got some way of buying and selling, but your work doesn't stop because you got to figure out how much you're going to buy or sell and size your positions. You got to initial execute them flawlessly. You got to keep checking your ongoing position sizes because portfolios can very quickly get out of whack if you have a, uh, a volatile period. You got to execute position adjustments. And you've got this whole, what I call, mental side of trading. But it includes things like mental states and discipline and being aware of how you are responding to the markets and taking responsibility for your trading and having a contingency. You know, I, I was about ready to call you, Richard, and I wonder, we have the lightning going on outside here in the monsoons and the mountains of Arizona. I thought, what if I lose my electricity? What are we going to do for this talk? That's a contingency planning.
Now, if you look at this, then, and you're trying to be an all-weather trader, you better have all those boxes checked. And there's a lot to each of those boxes. So the prep work and getting everything ready to go is, is quite a lot. You got to have the discipline to execute that. Once you've gone through all the trouble of putting together all those boxes, it seems pointless to override it or to second-guess it. You've done your best work in planning. Execute it.
Here's another one that I find amazingly, it doesn't get done by a lot of traders. And I'm seeing it now in all the Twitter, uh, the tweets. You've got up markets, you've got down markets, you've got sideways markets. Everybody that trades knows that. It seems like a lot of people only have up-market strategies. They go sideways, they have no idea what to do, they get bored, they get antsy, they're trying to force trades and come up with stuff that they're quickly scrambling out of and just trying to preserve capital. Even worse, in down markets, they seem to be losing money, they're having a struggle, they're trying to decide whether they want to just pull away from it all and wait until the thing turns around the other way or whatever. I mean, down markets move relatively faster than up markets. So there's a lot of good money to be made in bear markets. And I don't understand why people don't have strategies for all of these conditions because everybody on this call knows that there's going to be up markets, down markets, and sideways markets. Why not plan for them?
So anticipate the various risks. And I'm talking about positive risks and negative risks. And attack them. The reason I, I talk about attacking risk versus avoiding risk is I like to think that when you're on offense, you're calling the shots. When you're on defense, the offense is sort of calling the shots and you are reacting. And I would rather try to anticipate and try to figure out where the risks are and be in control of trying to modify those risks or eliminate them or reduce them, at least something like that, to try to sit back and like be a buy-and-hold investor and buy the best stocks in the world, let's say. Is this going to allow the markets and those particular, uh, the pricing in those positions that you're in to dictate what happens to you? You're not in any control whatsoever. That's an uncomfortable mental place to be for me.
So let's look at all the ways that we might attack risk. And a lot of these again are things that I actually do every day. They're part of my trading strategies. And I'm passing them along to give ideas to traders out there on ways of maybe adding to what they're doing. Uh, I've remained really solid on my performance through the last six months, and it's been relatively easy to do so.
The first thing I do is timing. That is a theme that goes through quite a bit of what I do. Goes back to the days when I was a mutual fund timer before they even had exchange-traded funds, which have been around longer than some of the traders on this call, probably. So, what timing is to me is you're attacking the risk of a situation by getting it out of the portfolio. It's simple. You go to cash. Cash has zero risk. You're going to make some interest and you're going to have no drawdowns with cash. So you just have to figure out a way to time stuff. And that's done to me with the buy-sell engine. Now, you can have a buy-sell engine that's a trend-following. You could have a buy-sell engine that might be driven by the phase of the moon, whatever your own unique slant on life is in trading. I'm more of a trend follower. I'm comfortable with trend following. So most of the types of buy-sell engines and the way I deal with things come from that viewpoint. But, uh, the word engine motivates the car. It pulls the car, or it makes the airplane go, or it makes the train go. An engine creates action. And so I like to think of the buy-sell engine as the, the indicator or the engine that tries to motivate the trader to do something. That's why I call it an engine.
So here's some examples of what, what is not a buy-sell engine. You screen the lowest 10 price-to-earnings stocks. Okay, what does that mean? That's just gives you a list. That doesn't force you to do anything with it. Or how about looking at the 50-day and 100-day moving averages and see what they're doing? Okay, well, are you going to buy when they cross? Are you going to, like, uh, maybe buy because the 50 is starting to turn direction towards the 100? There's a million different ways you could do that. You could hear some good news about a company, and what are you going to do with that? You're going to go buy the company stock tip? Or another one, market opens down 2%, one of your stocks down 4%, so you decide to sell it. And in all of these cases that I did here, you're sort of making it up on the fly. There is no strategy. There is no specific action required. And that is a mistake. It's going to just increase the difficulties you have with the mental side of trading.
So trend following, uh, these indicators, you could do moving averages. There's three of my favorites are, uh, Donchian channels, Keltner bands, and Bollinger Bands. I like all of those for various reasons, that we maybe can get into a little later if somebody's interested. But these models attempt to buy when the trend changes to up, sell when it changes to down. You buy well off the bottom and you sell well off the top. So you're never going to get the maximum low or the the maximum high. You're going to have a lower number of trades because you're going to attempt to get in on a trend and just ride it forever if you can. You're going to let profits run, you're going to cut losses quickly. Strategies, everyone I've ever looked at seems to come in between 30 to 40% reliability. So you're going to have almost two trades negative for every trade that's positive. But the reason you make money is the last item: the larger average profit to average loss is two to one or more. So if you, if you're two times the number of losing trades to one trade, but if your good trade is two times your average loss, you're breaking even at least. If you can do any better than that anywhere along the way, you're ahead of the game.
So real-life statistics. TrendStat, my old money management firm, I was at for 28 years before I retired. We averaged somewhere around 33% reliability over all of our strategies over all of time, and those were real results. Uh, I haven't bothered to calculate what my reliability has been with my own trading the last, what, 18, 19 years now that I've been retired because I don't have to keep track of that stuff anymore for legal purposes. Sometimes one or two trades all year would produce most of the profits for the portfolio, and the rest of them just basically broke even. And I never had to predict anything. You know, when you start predicting things, what is, what happens to your mental side? You're locking yourself into a certain way of thinking. And when you do that, what ends up happening is the market does something, and all of a sudden it's not doing what you expected it to do. And now angst sets in. And was your prediction wrong? Are you beating yourself up? Yeah. Are you locked into your thinking and not flexible to go the other way if it's appropriate? Lots of problems with predicting.
Let's look at just some simple examples here. I just pulled Boeing stock with a 10-day to 50-day moving average. And you can see here where the, the red arrows down are sell signals where the quicker line goes through the longer-term line. And here's a couple of good trades here that were positive. I colored those green, uh, as buys. And, um, you're going to catch a lot of the big trends here. And here you're going to get whipsawed like you did right here with this first sell. Uh, you actually had to come back in and buy just a touch higher than where you sold. So that was a useless trade, but you protected your risk. If you're out of the stock, you're in cash, you were fine.
Look at another one. And this one's got, it's fairly small. I apologize for that. I hope people can see it, maybe zoom their screen or something. But what I, these are my three favorite indicators. You can see three lines on the top up here and three lines on the bottom. And I usually just take the first one struck. So whichever the first indicator up is, that's the one that's dictating where my stops are. And I've got a sell signal here where I've got a little a marker that's red because it was a negative trade. You actually sold and then got back in at a higher price. Then a great run, and then you, uh, sold out. This is, by the way, Meta, which is the old Facebook, uh, Meta stock. I mean, it's had a really serious downside from up in the 390s, almost 380s, all the way down to 160 these days when I pulled this. And you're out of it all the way. Never, ever got to the point where you got back in the hallway. So that's a simple way of getting out of the risk with timing.
No, this is something that I guess if anybody that's been following me for a long time, probably has heard me at one time or another say, "The market's direction is down, hedges are on." And I put it in a tweet, and, you know, 50 or 70 people retweet it, like it, comment on it, whatever. And this is always available. I try to update it maybe once a week, if maybe a little bit more frequently if we're close to a signal, on the enjoytheride.world website, which is right down here at the bottom of every page. That's the website I put together for my retirement, and I included all the, the interviews and, you know, books I like and the hedging, how I do hedging, and just try to be helpful, um, so that traders have some examples of things they can do. And hopefully, people can come up with their own much better ideas than mine and improve what they do.
So, what, what is hedging, really? It's attacking risk by establishing a negatively correlated position to offset losses with gains. So instead of, if you're long a stock portfolio, and I'll use my hands here if you can see them in the camera, and let's say the palm is making money, so I'm long stocks, I'm going to make money when it goes up, I'm going to lose money when it goes down. Doing a hedge simply means coming in with a position that is a short sale. Let's say you could short S&P futures, you could short Nasdaq futures, you could short Russell's. So what happens then? If you've balanced it, well, the hands go up and down together. One side makes money, the other side loses money. You're basically in cash, kinda. Not quite, but it's because you never get it perfect. But, uh, you've drastically dropped your risk. So that's a technique I use.
I have a sector allocation and timing program that I trade 20 different ETFs. Those 20 different ETFs are sitting there long. If a stock market goes through a 50% down and I didn't do something to get out of those things, I would get, I'd be down probably 50% in that section of my portfolio, and that's not acceptable to me. So what I do is on my long exposure, I calculate that every day. And if I've got all 20 positions on, I'm 100% invested, then that's the amount I got to hedge. And I establish a, in my case, I do a standard S&P 500 futures contract or two or three or however many I need. And I put those in place. Initially, as I time out of some of my sectors, right now I'm running 10, so I've got two positions on out of 20 possible positions. I don't need as much. I don't have to have as much hedge now. So as I'm going down and as I'm timed out of some of the sector positions, I'm peeling off pieces of my hedge. And that allows me to be able to, you know, keep them balanced throughout the trade because you never know how long a bear market, you know, is going to last. We, we might be on one right here that could last the next two years, who knows? I don't. Uh, it, the market will do what the market will do. One of my favorite sayings, I keep reminding myself of.
So here's actually the graph that I put on my webpage. It's, it's, in my case, this is an SPY ETF. And the little green and red circles would be the, uh, the actual action points where I put the hedge on with the red, I take it back off in the green, put it back on. And you can see we're on a pretty long run down now from around the 430 down to as low as 360. And so far, I'm nowhere near taking it off. So, uh, it's another great way to protect yourself in a bear market.
This next topic is one which a lot of people don't want to do. It's a lot of work. And I'll just warn you that right up front. It's a learning curve item. And I call it extreme diversification. Now, regular diversification, what you're doing with this is you're attacking risk by purposely adding ridiculous amounts of diversification, almost to the point of absurdity. But you can imagine if you've got a portfolio full of things that don't act like each other, then, uh, you're going to be protecting a lot of risk. So diversification is all about selecting items that move independently of the rest of the portfolio. If you've got, you can imagine, you know, millions of dollars and you could hold 50 to 100 different positions, none of which correlate with each other. It's going to be hard to make the portfolio go up or down because, you know, item A is going to be fighting with item B, which is going to be fighting with item C. They might be going in different directions. So you're going to smooth everything out.
If you have a perfect correlation in anything, so you, I don't know, you look at two tech stocks, let's say, you're going to have a correlation up in the 0.9 range. If it's perfectly correlated, it'd be 1.00 or 100, depending on which nomenclature that particular correlation matrix gives you. If it's perfectly negatively correlated, which is what you'd want to do for a hedge because you want to make money on one side and lose it on the other, so that you're negative one or negative 100. But when you're around zero, that's perfect for diversification because each item has nothing to do with anything else. So they all go their separate ways. And as long as you're trading each of them in a way that's appropriate, you just pick up these little edges here and there and all over the place. You lose in other places, but you get a much steadier equity curve. There's no link between the two items measured.
Here's an example. I just pulled from one of the services I had that I was able to pull this in June, so just a few weeks ago. And this is most of the major markets of the world. You got three from the US, we got the UK, you got Germany, France, Korea, Australia, New Zealand, and Japan. That covers quite a lot of the large money movement in stocks around the world. And back in the day, when I first started back in the '70s, uh, there was quite a useful diversification of being able to trade in different types of markets around the world because, you know, currency, uh, increases and decreases, that helped either pump up the value of your, uh, international holdings. You had, uh, stock markets in different countries doing different things than what happened in the U.S. But along came computers around 1980 or so, and pretty soon what happened in New York, uh, now becomes what is going to go on in the Nikkei and Japan, and it's going to filter over into Seoul, and it's going to be in Hong Kong, and then you're going to move to Europe, and you're going to do the same thing all over again. And then New York's going to open up, and we start all over again.
So you look at these correlation coefficients, and you know, the U.S. guys look at, I mean, the U.S. you got 0.96, is 0.99, is 0.94, uh, you got 0.97s. I mean, that's ridiculous high correlation. So it's not surprising if the Russell's down today, chances are the S&P is down today. So if you think you're getting diversification by doing, like, small-cap and large-cap, you're kidding yourself. Uh, if you think that by going to, uh, France, let's say, you're going to get a benefit, well, yeah, 0.9, pretty high. Korea, 0.82, 0.83, 0.87. These are all very high correlations. If you look down here where I am, the cursor, the Seoul Nikkei in the last month would be the least correlated, and it's still 0.45 to the positive side. So there's, oh, here's one over here, New Zealand to, uh, Japan, 0.44. So there's really not a lot of places to hide when you try to go around the world stock markets. And for those that want to do their own correlation table for anything, just remember that Excel has a handy little CORREL command. And I just encourage you to make the data links of both investments and dates match exactly, otherwise you'll get an error. But they even create your own correlation out of any instruments that you come up with.
So extreme diversification, how I do it. And, uh, I'm also chairman of Standpoint Funds Management Group, and this is the way they do it too. Is they include a large chunk of various futures markets because you've got grains, energies, financials, metals, softs, which would be things like orange juice, sugar, uh, lumber, all of these types of things. Indexes would be the stock indexes. And then the currencies. And so you got a lot of different things going on there. And I made up my own, just, I just cherry-picked a few things here, and I'll go over what these are. CL would be crude oil, that would be natural gas, NG. W-2 would be wheat, S-2 would be soybeans. GC would be gold, silver would be the next one, lumber, live cattle, live hogs, and the Japanese yen currency. Now, I ran these over a period of time. Look at the correlation coefficients. I painted red the ones that were fairly high. All of the rest are green because they're right around zero. And it isn't it common sense? I mean, why would the Japanese yen care what soybeans was doing? You know? So if you look at Japanese yen and soybeans, you got a 0.03. Of course, it would have a 0.03. Why would the Japanese yen do anything similar or negative to what soybeans is doing? Those two markets aren't going to care about each other.
So by putting in, and Standpoint takes it to a ridiculous example where I'm the chairman, they have 75 markets they trade that range from everything. In my case, I run 26 different markets. That's enough for, you know, me as an individual and running my own portfolio. But to me, if you, it's just logical to think that, you know, why would crude oil care what's happening in live hogs or lean hogs? It just doesn't. So you're going to get very, very low correlation coefficients.
This, I apologize, you're not going to be able to see the individual numbers, but just look at the colors. And I'll explain. This is, uh, actually for more research center, and you can find them at mrci.com. And they allowed me, uh, a trial access for a period, and I was able to extract this correlation table for you. And it was 180 days up through September 20th, 2019. And suffice it to say, on both sides of the correlation matrix, there's a huge number of various global macro markets or futures. The ones that are green are very highly positively correlated, and the ones that are red are very highly negatively correlated. And all the rest are not correlated as much. So you can see the vast majority of the page is white. And you can even drill down some more and set your own criteria and say, well, I don't want even a positive 0.88, that's too high of a correlation. I want to keep it to 50 or lower. And what you do is you would color more of the squares, and you would be selecting things that logically are not correlated with each other. But you can see there's, there's definitely some potential here for extreme diversification.
And, uh, I, I mean, if we go through what, what I've been doing this last six months during the bear market, this is the part of my portfolio that's really carried the freight. They've carried the load like crazy because you've got, with the war and everything, there's been huge moves in unleaded gas and crude oil. Natural gas has had some huge moves. Copper's falling off the table and it's just crashing. Uh, interest rates, the Fed's been trying to run interest rates up. So what's going to happen to the bond futures? They're going to drop. So you go short and you make a lot of money that way. Uh, lumber, if you're starting to go into a recession, do you think people are going to be building houses as fast? No. So lumber prices start declining, and you go short lumber. There's just a lot of examples of that. But Japanese yen, they've been having a hard time in Japan managing their economy. The yen has been falling forever, it seems. I've been short for an awfully long time. Um, and it's, it's easy to make some money in some of these major trends that go on. And you don't have to really do a lot of trading. You just have to hold on to your position and watch it continue to go with the trend. So a lot of profits to be made here. And, uh, they're different than stock market profits.
The next thing that has really helped me hold my own against the bear market is position sizing. Why do it? And how might you do it? Well, all positions are going to have different types of risks. You, and I listed some of them here: risk of the stop losses, the risk of losing money, the risk of moving quicker or slower, volatility. That's kind of a risk because it affects your brain, your mental side. You get a very volatile position, you're going to end up piercing Mr. Serenity's patience with it real quick. Bankruptcy, going to zero, that's something that you can't do with trading. News risk, risk of the market. But on a position basis, on sizing your position, you can manage the first two certainly.
So how could you do it? In various ways. One would be to control initial position size by dealing with the risk percent. So in my case, if I'm managing, say, my futures portfolio, and this is a different number for each of my nine strategies that I trade. So, uh, just take it as a grain of salt. Your, your risk percent that you would want to have personally will always be different than mine and everybody else's because you're a unique trader doing a unique strategy. And you need to come up with your own data on this. But in my case, I use about a half of one percent of my equity for each position I put on. The way I do that is I just take the risk in dollars to my stop loss, divide it by the equity I've got running right that day, whatever I've got, and that gives me a risk percent per position. That could be one contract of futures, or could be one share of a stock or an ETF. By knowing where my allowable limit is, which is say 0.5% of my equity number, I know how much I can take on. I know how much the risk percent wise of every single unit is. Simple math that you learned in junior high school will allow you to figure out how many shares or futures contracts you should put on to meet your allocation.
You do the same thing with volatility. If you're okay with your account going up and down 50% each day, I would label you somewhat crazy. But I, I look at each position, I say, um, I think about 0.3, maybe something like that, percent of equity. If I've got a portfolio of at any one time, 40 to 60 things, and if I got each one potentially going 0.3%, you start adding that up, my account can go up and down by a fair amount. And I have a certain, you know, I'm retired. I, I want to try to keep things smooth and easy. So volatility percent, just take average true range in dollars divided by the equity in dollars, set your volatility target, figure out how many units you should do. Control your ongoing position size. Like I just mentioned a while back, you know, Japanese yen's been calm down what seems like forever. Well, the conditions now may be very different from when I got into the thing. So as the markets change, particularly as trends mature, you get a lot of, uh, people jumping on and wanting to get in on the action. So you get more volatility. I want to control that volatility because I don't ever want to see my account go up and down at any more than a certain amount. Now, a lot of people have a real problem with volatility targeting. It's a pet peeve or a pet topic. I see on Twitter all the time by some. I fall on the side of, I like to target my volatility. It keeps me mentally sane.
Ongoing volatility, same as controlling ongoing risk percentages. Now, here's another one that people don't think a lot about. If I've got a portfolio, let's say in my futures trading of 26 different things, and each one has as much as one percent risk at the maximum, you could end up with a theoretical situation where I have 26% of my portfolio at risk if everyone went back to its stop loss point. Unlikely, but possible. So we don't like to worry too much. So I put a number, I think of 16, if I remember right, is where I usually run. If it gets up to 16, this is about where we ran TrendStat back in the day when I had the money management firm. If the whole portfolio to their stop loss points gets up to 16 total, I just peel off a tiny section of all the positions at the same time, bring me back into control. And I do the same thing with volatilities. If the volatility gets above a level where I feel like the whole portfolio, if it were to go to 1.0 correlation, is going to really catch my attention, I'll just peel off a little section of all the portfolio. So all of these have value in smoothing performance and improving the return to risk. And I'm going to show you some examples. And I'll use a symbol math and the formulas in the book that I, uh, I think you can get for $10 either Amazon or on the enjoytheride.world website. It's an easy read, simple math, all the formulas are included.
So the goal out of all of this is one. The goal is to make every position that you put on in your portfolio meaningful. Never ever non-meaningful. So you don't want to put in a position. These guys that come up and they put in, and I'm just going to buy 100 shares of this because I want to, you know, get in on some of it. I'll probably add to my position, you know, over the next couple weeks. I, every position I put on has a significant, a significance to the portfolio. If I'm putting a lumber position on, it's got the same significance that my silver positions got, or my treasury bond position, or my Japanese yen position. I don't really care what they are. I want them to all have a shot at contributing to the positive and to the negative, so that I control all of that. I never, ever want any one of those positions dangerously large. I don't care how much conviction, how much I absolutely believe this is going to be the best trade I've ever done in my life. I'm not going to just all of a sudden say, well, I think instead of doing 100 shares on this one, I'm going to do, you know, 20,000 shares or something ridiculous. I mean, there's just no point.
So here's a, a matrix that I just put together. And I used, uh, a trading platform called SimTrader that I am consulting with, that is not even available to the public yet. Uh, I think the guys are working on trying to move it out to the public this year, sometime later in the year, hopefully they do. Uh, meanwhile, I'm using a beta version of it. And so I ran some cases. I took 26 futures markets, uh, I dialed in the risk percent at 0.5, volatility percent at 0.3, ongoing risk percent at one, ongoing vol percent at 0.4, total risk percent of the portfolio at 16, and volatility percent of the total portfolio at six. The thing that's interesting, and I started with $10 million on all these cases, and that's just a tip to those that do simulations: use a very large dollar amount for all of your initial equity, even if it has nothing to do with what you're going to be trading. The reason is granularity. When you get to $10 million with this particular strategy, I know that all of the 26 markets will have positions. They'll all have the effect of sizing the position. Uh, it will come into play. Granularity is when you have 26 items and you start with $1 million, and all of a sudden the unleaded gas position drops out at this next trade because you can't afford it. So, and then you're going to get results that are highly granular, uh, based on the size of your portfolio. And I want to, I want to make sure I take that out. So I start with $10 million.
But you can see the base case here. When I just put in risk percent, we got to $12 million by the end. And all of the, the various Sortino ratios, return to average drawdowns, MAR ratio, maximum drawdowns, 42%. That was this right here. To me, that would be tough for me to take. But add some volatility, and up your numbers go up. You got a bigger return, you got a bigger return to average drawdown, you got a bigger Sortino ratio. Your drawdown's been reduced some. Your reliability is exactly the same. And you've, uh, your profits have gone down just slightly, but your profit factor has gone up. Now, we start adding ongoing controls in the next two. And you see now we jump up in returns, we jump up in return to average drawdowns. The Sortino has not climbed another 0.3. MAR ratio has gone up from 1.97 up into the 2.79. Drawdowns now down to 30% from 42%. That's an improvement. And we're running a slightly higher reliability. And now we're up to $16 million at the finish with a profit factor of 1.08. And then finally, we start throwing in the total portfolio controls. Now we're up in the eight and a half and above. We've got the highest Sharpe ratios, Sortino ratios. We've got a return to average drawdowns have climbed a little bit more. And the MAR ratio is looking good. Drawdown's been reduced some more. Reliability is hit all-time high of all cases. And you're up in the $16 million still and hanging in there at 1.08.
So my attitude is, when you look at the incrementals here, is it worth it to do proper position sizing? I'm showing you the results of a fixed portfolio with a fixed buy-sell engine. And all I'm varying here after every run is simply the position size. And it shows that by doing all of these little tricks, I have improved my return to risk ratios, I've improved my returns. And all I've had to do is just properly size my positions. That's the lesson that we learned by what I just showed you. It's worth it to spend the time doing this and doing it well.
So last topic here is going to be the sideways markets. We're going to attack risk by adding strategies likely to profit from markets that don't move. As you can see, when you go into sideways markets, which I've marked on the top line here, this is the standard S&P 500. And then against the equity, uh, of a timing strategy, just a simple 10-day versus 40-day moving average. I did on a spreadsheet. In the circles, you can see that the equity is generally going down whenever you have these sideways periods. So you got to come up with, if you're going to be an all-weather trader, a way to to do something about that.
One of the, one of the things I do about once a week, I go seven days out on a, um, put spread or a call spread. I make one trade and properly sized for my portfolio. And if I'm overbought condition, I'm doing a bear call spread. And if I'm oversold condition, I'm doing a bull put spread. And the reason I'm doing that, and I'll spare you the details of going through all this, but in this particular case, the market was at 425 on the SPY. So I sold a put. It was oversold at the time. So I sold a credit spread and I brought in over here $2.78, uh, cents for each, uh, spread that I did, times 100, of course. Uh, so what ends up happening is if the prices stay the same, I make all that money. The credit spreads expire worthless, I just get to keep it. The market goes down because remember, I was trying to think of, I thought the market was going to go up. It was oversold. I'm doing the put spread, so I'm thinking the market's going to climb. If it climbs, I make all the money. If it stays the same, I make all the money. If it starts going down a little bit, I still make money, but not as much as I would have liked. I start losing money when it gets down to 422, and I max out my loss at $2.22 at 420. So it has to go down five points and I max out my loss. This type of strategy, because you're extracting the premium in a sideways action, I don't know what my reliabilities are, but it wouldn't surprise me if they came in 80 to 90% of the time. I, I make the money on these things. Where you lose is when you get major trends and the market's moving one directional up or down. You get overbought, but you just keep getting overbought, overbought, every day it goes higher and higher and higher. Those where you lose. But you've got other strategies that are cleaning up then. So it's okay if this one loses because you're making it someplace else. Again, we're trying to be an all-weather trader.
Sideways market, another option, and this has been highly successful for me, and it won't be obvious, so I'm gonna have to point out some of the numbers here. Create an extremely short-term trading strategy. So a lot of my strategies are centered around once a month, you know, 21 days of trading and all that. Buy and hold is the ultimate not-do-anything strategy. And I went into some trader and I ran some numbers. In this particular, uh, strategy, I think with the SPY, did a over the period measured, 8.467%. You can see the 24% drawdown. You did one trade because you're buying and holding, and you went from 10 million up to, all right, you went from 1 million, actually, up to $17 million. It really, really was over a long period of time. Then I did a three-day, which is very short-term for me, three indicator SPY short-term timing to simply buy it when it goes up, sell it when it goes down, and risk adjust it only because you're not going to be in it long enough to worry about ongoing position sizes too much. So 0.5 and 1 is all I need. I don't care about the volatility. And look at the return here. This thing only is averaging 0.8%. So the average trader would run that and say, well, I don't want to do that. That's stupid. Why you want to do that is the last line. Look what happens when you add these two together. You end up with a higher return. You now are higher on your Sortino, you're higher on your return. You're averaging actually between the, uh, this, the return to average drawdown, the MAR has improved, the drawdown is less, and you're not doing a huge number of trades because I'm trading the S&P against the S&P in both of these. So sometimes the long position, buy and hold, has offset, with 75% of it down here, with the timing program. So you end up making more money and have better return to risk generally by adding in a strategy that by itself looks stupid.
Why, why would that happen? You're filling the holes. You're filling the potholes. You're making the drawdowns of the buy and hold lessened by way of doing something else that is liable to produce profits during those types of periods. If you're allocating between them, you have to assume that you have no idea what strategies would be the best in the near future because if you can do that, you don't even need to have strategies. You can just go out and buy or sell or will do whatever you have to do. If it's going to go sideways, maybe you go fishing, uh, whatever. But I don't know of anybody that has that kind of, uh, crystal ball. I certainly don't. So I allocate them to them equally. If you don't know any better than that, then then do that. What you are trying to do is to allocate to them to contribute. Have all of them contribute to profit or loss along the way in a controlled fashion. You want to design each strategy to blend with the others. You want to fill those potholes. Similar volatility, similar capital allocations, adjusting risks, volatility, and margin commitments to balance these strategies against themselves. And they don't have to be difficult. Like I said, the option strategy I'm doing takes me what, five minutes once a week? Doing a seven-day out option spread, that's nothing. It's, it's not straining my retirement. Um, and that's one of my nine strategies. A lot of the other ones take a very, very small amount of time. I may not, I trade crypto futures as one of my strategies. Moving the stops every day on that takes me literally 30 seconds and I'm done and I move on. Some of my strategies take longer.
Now, here's another topic that is actually something very important. If you have multiple strategies, managing the ongoing position sizes, constantly rebalancing the portfolio as new positions come on board, but rebalancing between your strategies can be done as often as you wish.
Or depending on the costs of execution. If there's like a lot of stock, firms now are not charging commissions. So aside from the bid-ask spread, you have very, very little cost to take a position and slice off 25 percent of it. And then take that 25 percent, move it someplace else to balance your portfolio.
The goal is to always be balanced all the time. That balances your mental processes. It keeps you even-keeled and looking at everything from the standpoint of, uh, reality out there and not getting emotional.
I did it every day at Trends. That by computer. So we would, whatever the equity came out, all of the different strategies got a portion of that equity. All the positions were sized based on that new equity figure, and adjustments were made. The cost of doing it was very minimal, and the computers can easily handle it.
So here's the important bottom line. Every study I have done in my lifetime shows that if you do this, you always improve your return to risk ratios. Always. Never had one that didn't.
So let's get into the mental side, and we'll finish this up. Um, as many of you know, Jack Swagger attacked me with Mr. Serenity back in like 1995, which is probably before some of you were born. And that name has kind of stuck with me over my lifetime. And so, in some way, I actually have a reputation to uphold in terms of being serene with my trading because everybody wants me to be Mr. Serenity, the model of a calm and administrative type of trader. And I, for the most part, I I am that.
Um, but the mental side is the most important part of your strategy. And why would that be? Because you can override any good idea you develop and mess things up. The markets will test your mental processes in every way that you can imagine. They'll test your greed. It'll test your fear of loss. It'll test your, your organization and discipline and your self-responsibility, your awareness of yourself. It'll test your contingency planning when the electricity goes out, or the internet goes down, or the firm you're trading with decides to have a bad day and goes offline. Every one of those things will, uh, will test you.
Social media predictions. I see these all the time. And I apologize to whoever this was. I just, it was easy to pull this, and I blacked out the name so that nobody's embarrassed. Read this: Canadian sectors on TSX look like they might be possibly turning to the upside, except Health Care, especially Canadian financials and real estate. SPY futures don't look terrible either, definitely looking short-term bullish to me. Made a long entry into Frey on Friday before the close. He follows that up with, "Never using the word 'definite' again when talking about the markets. Nothing is ever definite when it comes to the market." Things were looking pretty good until they looked terrible when I woke up this morning. Damn. And then he comes a little bit later and says, "Ah, we're looking to get good again. SPY on pancake flipping mode." Whatever that is.
All right, so does this look like a total strategy to you? Going back to my flowchart when we started. This guy, whoever this person is, is making it up as they go. There's no plan here. There's no strategy. There's no mention of indicators. It's looking this, and it's definitely looking that, and it, and then all of a sudden things are not looking that way. This is not the way to trade. You're just creating stress for yourself.
Discipline and trading a chart. I see all sorts of people saying, "We're waiting for the double bottom in 2020 during the COVID because it's got to touch the bottom." Well, it didn't test the bottom. It turned around, went straight back up. I had one of the best years of my life. Indicators went over long. I went long. I wasn't predicting. I don't care whether there's a double bottom or not. It's the indicator goes over, I go long. Quit trying to predict. A good trader just reads what's happening now, this moment, not yesterday, not tomorrow, today, at this moment. If you're in an uptrend, be long. If you're in a downtrend, be short or out. Keep it simple. A lot less strain and stress.
And with two minutes to spare in my hour, we have time for questions. Perfect time. You can get me about a million different ways. I'm on a bunch of social media platforms, and they're all listed here. I've been writing "Thoughts from Enjoy the Ride" every now and again when the mood strikes me. I am trying to be retired, uh, and I do have the website, and, uh, that's my email address if somebody has a burning question they need to ask me. And where's that? We have questions.
Yeah, Tom, thank you so much. I, I think this is a really interesting presentation. I'm looking forward to watching it back and, and kind of going through it again. There's a lot of questions coming in. And, and first of all, could you say the name of your book one more time? Because I think it's going to be "The All-Weather Trader," um, and there's a subtitle that I can't even remember, something about Mr. Serenity's thoughts on trade income or come rain or shine, yeah, I think is.
So, so that's going to be your new book. New book, but I think people are asking, I think it's all finished writing-wise. Uh, it's been through one edit, and I'm pulling together the illustrations and making them current and, uh, quality so people can read them. And that'll go to a graphics department at my publisher, and then I've got one more edit, uh, here in-house at our place where my wife, who's a grammar expert, and, um, and then that'll go over to the publisher for their final edit. And then three months from that point, um, it hits the streets. So it'll probably be, I'm guessing six months, maybe hopefully by the end of the year.
Perfect. And, and your, your other book on position sizing, what was the name of, of that?
That's called, uh, "Successful Traders Size Their Positions: Why and How."
Perfect. And it's like 80-something pages, easy read, lots of formulas to show you how to do it, examples. Um, I wrote it. I wrote that book while my wife was doing rehab for a, a soldier's shoulder surgery that she went through. And every time she would go to the rehab place, I had to drive because she couldn't drive with the shoulder. So I just take my laptop along and crank out another chapter. And by the time her rehab was done, I had a book written.
Perfect. Yeah, great. And, uh, Ray actually had a question about what software you use to backtest and, uh, test all your different strategies.
Um, well, in Trentstad days, uh, it was my own custom software, which cost us about a million dollars to put together over the years. These days, what I'm doing is consulting on a project called SimTrader. S-I-M-T-R-A-D-E-R. And it is functional at this point, and it covers quite a few of the things that I'm trying to do with my own portfolio. And they're using me as an example. And, uh, so they put out new, new and improved versions. I beat it up. I do simulations of what some of my strategies are right now, and I can do some things that I'm not doing now, but just to test the system and all that. Um, it's not ready for prime time yet. It's getting there. It started. It operates in the cloud. It's going to be a subscription model, and I think they're hoping to try to get it out before the end of the year as well, either that or early next year. And it's like a hundred thousand lines of code, and they've done a lot of this thing, and it's pretty, pretty slick. I like it. Um, so we'll see. It's not available. I've got probably the access to between the developers and myself, we're the only, uh, people that have access to the platform at this point, and it'll be a while before anybody else does. You've got to add a bunch of stuff to it yet.
Cool. And, uh, I had a question about, you know, you said most of your strategy is because it kind of fits your personality, so they're trend following. So I'd love to hear if you use any kind of mean reversion type strategies and also your, you know, the pros and cons of both types.
Interestingly enough, I had a conversation with a trader yesterday on exactly this topic. And it was a lady, uh, which is rare because about 80 percent of the people that come to the website are guys. Uh, it's very much a, uh, a guy's business, apparently. Um, and she was saying she was having a really, really hard time incorporating mean reversion along with her trend following. And she knows that the two are kind of counter-opposed to each other, which makes a lot of sense. It's going to help you fill the pothole. However, lately, with the mortgages going straight down day after day in many cases, the poor mean reversion strategies would be mean reversion longs. So you'd be buying on the dips, and they're getting shredded, and the stops are getting taken out, and the market makes new lows. And she sees that, and it kind of, it's hard to handle mentally.
So I told her about what I do. I would have a hard time doing pure mean reversion, which is literally sticking a limit out in the middle of some place, hoping the market comes to my limit, executes me, and then turns around on a dime. You're sort of predicting that the market's going to turn at that point, get you in, and then turn and make you profits. There's a lot of predicting going on there, and I don't like that. So what I do is what I showed in my example. I create something very, very short term. I have one strategy of my nine that I only do when I'm sitting here by the computer, and it involves using five-minute bars, and I day trade off the five-minute bars. And I have completely algorithmized position sizing and where I get my buys, where I get my stops, where I take profits, partial profits, everything is hardwired. So I'm sitting here, you know, writing my book, let's say, and every five minutes, I have a little time or a buzzer goes off when I, whenever 15 seconds to the end of the bar period, it attracts my attention over to another screen that's just over here. I take a look at it, I move whatever stops I have to move, and I go back to writing my book. Easy to do, no big deal.
Uh, what I do for the daily is what I would call counter-trend, as opposed to mean reversion. So what I'm doing is looking for overbought, oversold indicators. I like the RSI, stochastic, but there's a number of other oscillators that are probably equally good. Choose your favorite, it makes no difference. Um, once you get an oversold condition, you want to be going long. So what I would do is set up buy stops on a very, very short-term basis. Could be a one-day type of bar. You could be buying above the previous day's high. You could be using a three-day Keltner band or whatever, whatever your favorite buy signal engine is. But because you've gone so short-term, you're going to find yourself picking up profits in those nice volatile sideways action. You're going to be in and out, and in and out, going to do a lot of trades, but you'll probably find that you're not going to have large drawdowns. You'll probably offset some of the drawdown that's created by your longer-term trend following. And it essentially has a lot of the characteristics for filling the potholes as does mean reversion. So I think that they're symbiotic in their relationships. And just by going very, very short-term, excessively short-term compared to say, a very long-term trend following on the other side, you get a lot of diversification effect. So that's how I handle the problem.
Yeah, I think that's a good answer. Um, and I also wanted to ask you, um, how do you come up with new ideas for strategies, and what would make you go from an idea to actually adopting it and allocating capital from your portfolio?
Okay, um, how I do it is I start from knowing where I am right now. So I have an extreme knowledge level, high-level knowledge of all of the characteristics of my current strategies. And I can look at an equity curve and know exactly where my weak spots are. For instance, in futures, I knew I was getting a little bit of more drawdown than I wanted on my longer-term trend following model. So I set out to develop, what I call counter-trend, which is very short-term action. I just described to you a little while ago on 26 markets. I'm trading it now, and that's a little more complicated. Does take me a little time to get through it every day. We're trying to automate that as well. Um, but it's been materially beneficial, risk. In the first, I've been trading it probably three, four months now, and it's done a great job of when my trends are really stretched out and everything's going my way, and I'm having these fantastic profitable days, and I don't know it, but tomorrow it's going to be a reversal day, it's going to go the other way. When that happens, the counter-trend kicks in and is actually either takes me out of positions because they're trading the same markets that I'm trading with the long term, so they fight each other, right? And all of a sudden I'll be out of four or five markets that day, I'll go to zero. Then when the counter-trend takes its profit or reduces or gets stopped out, whatever, then I'm back to my long-term trend position. So the counter-trend is jumping in and out all the time while the long-term trend is doing its thing. And the meanwhile, the option spreads, the credit spreads are accruing to my benefit, and, you know, the cryptos are done, whatever the cryptos do. And, you know, you got a lot of diversification going on. Um, I'm trying to find momentum ETFs to come in, and I can't even get one to hit the the minimum criteria. So I've got zero positions there, and I'm 10 or two positions out of 20 in my sector timing. So that's pretty easy duty. And, you know, the world goes on. And I, I just, I seem to be watching our economy and our, uh, a country. It almost seems like just go down the drain, and the markets along with it. And I'm just sitting here watching the the movie, doing what I do every day.
Yep. And what would make you eventually retire a certain strategy? Would you have to come up with something better, or if it's, you know, stops working up to, uh, you know, what you wanted to do?
Yeah, I guess for me, each strategy has sort of a mission, if you will. You know, if you think of it in military terms, you got a crew, and the mission is to go extract this individual from hostile territory or whatever it is. But my mission of, say, long-term trend following is it better make a lot of money when the markets are trending, and it better lose money when the markets are going sideways because you shouldn't have big profits. Uh, I mean, it'd almost be an accident if you did because sideways markets would be notoriously bad for trend following. On the other hand, the short-term trades, you'd want that to do a different mission. So each of these strategies has a certain mission that it must try to deal with. And as long as it's fulfilling that mission, I'm going to let it keep doing what it's doing. And that includes losing money when it should be losing money. I've just done a couple of crypto futures trades that were losers after having a huge profitable short sale with cryptos crashing along with the stock market. I made a lot of money to the downside. Now I've done two trades that were both losers. That doesn't mean I abandon my strategy because if you look at a chart of crypto futures right now, they're going sideways. And I'm trading, uh, in that case, a nine-day trend following package of three different buy-sell engines. And so if I look at that chart and I know what my indicators are, I would say I'm probably going to lose money during that period. And I did lose money during that period with that. So that doesn't mean it's broken. It means it's doing exactly what I designed it to do, and it's having a period where the market's throwing some conditions that, um, are going to happen from time to time. And during those types of times, I'm looking for the other eight strategies I run to try to pick up the slack. Right.
Perfect. And there's a pretty good question here from Matt. Uh, yes, what is the minimum profit factor for any individual strategy that you look for?
It's just going to be positive. Because typically, if you've got a very, um, small edge, your profit factor is say 1.1 or 1.08 or something. Think of it this way. That says on average, every time I do this trade, on average, I'm going to make eight cents. So to be successful as a trader, you've got to look at a thousand trades or ten thousand trades. Over the next several thousand trades, how do you get there? That when you have a small profit factor like that, you're probably looking at doing lots and lots of trades across lots and lots of markets to build up those pennies into something meaningful. If, on the other hand, you have a profit factor that's larger, you're probably going to be into a more of a long-term trend following approach where when you're profitable, you might be making 1.5 or 2 or whatever. Three. I, I had one program back at Trentstad days where we were running about seven. The average profits of the average loss was seven times the average loss. So I mean, you just need one of those trades to come along once a year, and you're home free. The rest of the year, you just throw out. You just have to do a lot of trades to get there. And that's kind of the way I look at it. It's more of a function of the the math behind your strategy. If you're doing more short-term and if you're doing things more in range trading terms, you're probably going to have a much lower, but quite acceptable, as long as it's greater than one, profit factor. Right. And then your, your job is to do a lot, a lot of trades and just add up those pennies. If you do the, you know, the long-term trend following, you can, you know, do a few trades over a period. You don't have to strain yourself doing a lot of trading. But when you find that big winner, you need to milk it like crazy because it's going to pay for a lot of the losers.
And this might be a stupid question, but what does, how do you calculate percentage reliability? Is that just kind of your batting average, like your average win rate, or is that something else?
Yeah, the average, the average reliability is just nothing more than the number of winning trades that you closed out versus the total trades that you did. So when I say that long-term trend following is, you know, over my lifetime was around 33 percent, that's what I figure it was. Um, and when I run simulations on SimTrader or whatever, I'm, every trend following model I come up with, whatever indicator I come up with, they all come in between 30 to 40. All of them. I, I very rarely have ever seen anything go over 40. Now, when you get up into very short-term trading, or you do some counter-trends, or you do like the, like I said, the credit spreads, you get periods there where, you know, you're up in the 80s and 90s on success ratios. The time when you lose, you get hit pretty good. Yeah, but fortunately, you don't get hit. When you get hit pretty good, you're probably making money someplace else. So it kind of, it all comes out in the wash. But I don't mind taking a loss on the credit spreads when I know that I'm going to be cleaning up over here in this other strategy. So it's the total of all of them together. It's kind of like, you know, you have nine kids, and you love them all, but they're all very different.
Yeah. Perfect. And I want to ask you, uh, you mentioned those three indicators, the different bands, uh, that that are your favorite indicators. Yeah. Why is that the case? So what do you like specifically about those?
That's a good question. Um, I prefer trend following models that have the ability to change on the fly with changing conditions. A good example is just the last two, three years. You've had unbelievable down with COVID crash, you unbelievable up after it with the COVID recovery. You've had 2019, uh, then everything got into 2020. Is now going into, what appears to be an ongoing bear market. It hasn't shown much sign of life from my viewpoint at all. And the economy doesn't look so good to me either. I think we're in a recession already. I just don't think the official, you know, official GDP numbers have verified that yet, but I think we've been in it for a while, as far as I'm concerned. And so if you're looking at varying conditions with volatility, then how could you take, like, if you did a moving average study and you did it right today, and you went back over the last 10 years, you would find the, if you ran enough cases, the exact two moving averages to use that would give you the best results, return to risk ratios, return on investment, everything. And you'd pick that case and say, that was your optimum combination of indicators. But let's say next year, the, but we still stay in the bear market, and everybody gets tired of it, and volatility collapses, and nobody's trading anymore, and we've washed out a bunch of traders because nobody cares. How do you, what was optimum today is not optimum none, maybe?
So with Donchian channels, you're measuring the top and the bottom of a price range X days. So in volatile periods, those are going to expand. In narrow periods about low volatility, they're going to come together. So the Donchian channels are using prices and the range of prices to change the indicator on the fly. Keltner's start with an exponential moving average over the period that you decide. So in my case, I use 21 days a lot because that's about one month, and that's about all I care about being a retired, and everything. I don't want to sit here in front of a computer all day. So 21 days, that's easy. So exponential 21 days, no big deal. Then it's going to put a band on top and bottom based on what ATR, which is volatility, right? So as volatility gets larger, the bands get wider apart. And as volatility gets narrower, the bands get tighter. Perfect. So it's adjusting on the fly to volatility. Bollinger Bands, um, they use standard deviation of the prices over a certain period. So I use 21 days, look at the standard deviations, two bands wider when it's volatile, less, less wide when it's not volatile. That way, I don't have to sit here and be re-optimizing my indicators once a month or once a year or any other period. They sort of optimize themselves. And that keeps the indicators far more robust than it. And then the other thing I do by combining together, Donchians have price levels. You get in situations like the COVID crash where the prices go one direction and fast. But if you have 21 days on your Donchian, you're going to still be at that stop level up on top of that highest high before the the COVID crash happened for 21 days until you get to move the the stop loss down and pick up the reversal as it goes the other way. Things like Keltner are a lot more nimble at starting to immediately the moving average or the exponential average will immediately start going down. So you'll get very different math. And I find the math of these three combined to me offset some of the weaknesses in the other. So I always take the first one to hit. And it allows me the flexibility to deal with various trading conditions very effectively. And at the same time, all of the three indicators are constantly changing themselves according to conditions. So they're robust indicators. And using them together kind of is a very synergistic way of looking at it.
Perfect. And there's another question from Ray. How does emotion get in the way of your systematic approach?
It doesn't anymore. But when I was more like Richard's age, uh, I, uh, yeah, it was. I had to learn a lot about myself and and had to figure out tricks to keep myself very stable and balanced. And, uh, fortunately, I figured some of those things out. But emotions can really come into play in that. I see people get greedy. I see people, and they want to take profits. You know, hey, you take a profit, you know, you go out to dinner tonight and buy a steak and have a bottle of wine. Um, but that's just as bad as becoming frustrated and shutting down your well-thought-out trading strategy that you took months and months and months creating. And then it has a rough period, and you, maybe you didn't do your position sizing real well, or you took on too much risk, or didn't anticipate conditions that are now you're facing. And the indicator doesn't deal with that very well, and you take some losses. And then you start second-guessing yourself. And then emotion comes in, and you start wanting to override some signals that don't feel right, you know, and it says to buy, but I don't. It still looks weak. Now, I don't know if I want to jump in here. And you start, you're no longer doing a strategy, you're just making it up. And emotion is justifying that because you're, you feel better about trying to do it. But all you're doing is building more and more stress and and more emotion into your trading because now you're starting to predict. You're starting to say, I'll take this signal and not that one. You get into a, uh, a psychological rabbit hole. Yeah, and you have a hard time getting out of it.
Perfect. And, uh, there's also a question that I'm trying to remember here. Um, yeah, I think I'll come back to me. Uh, but yeah, I also wanted to ask you, kind of, what is your overall favorite trading quote, or if you've got a few that you think are, is really good advice for traders out there watching?
Uh, one I use a lot: "The market will do what the market will do." Always remember that. Quit trying to force your opinion of what's going to happen on this very complex collection of millions and millions of traders around the world pushing money in or taking it out, moving prices up or down. Just read what what's happening today and go with it. So that's the market will do what the market will do. Um, and another one I have on my wall next to my trading desk: "Unless you are humble in the face of the market, the market will see to it that you are humbled." Yeah, that's another one I really like.
And, uh, is there any others that come to mind?
I probably have said other things that were memorable, but I can't remember.
No, those are good. Those are perfect. And I remember the question I wanted to ask. Okay. Do you find that the more simple or or less complex systems ultimately perform best, or, you know, when you really dive deep and and have all these different gears and and dials, do those actually perform better in the long run?
Yeah, that's a super good question. Uh, Jack Swagger, who wrote "Market Wizards" and became a friend, uh, throughout that period, and we had a lot of conversations when I'd go to New York, I'd see him. He uses a term, "degrees of restriction" on trading strategies. I love that term because it's a play-off of degrees of freedom statistically. But when he says degrees of restriction, what he's talking about is the more parameters you add to a strategy, the more restrictive it becomes. So think of this. Let's say we took a fancy simulation platform and we took data from 50 markets over the last 50 years, and we came up with a bunch of buy-sell indicators and position sizing algorithms and built that all into the system. And off we go. We're going to optimize the heck out of it. We're going to keep adding. Well, this one trade was a loser, but if we had looked at the overbought-oversold indicator of the stochastic RSI over the last 30 days, it would have kept us out of it. And a good example of that was a former partner I had when we're doing initial fund timing. I got back from a trip to visit clients, and I walked in and I said, "Hey, do we get the buy signal on the mutual fund timing?" And he said, "No." And I know, seems to me we should have gotten a buy. He pulls on his book. The ghost starts. Okay, if this indicator goes to the upside, that's good. That's the first part of it. All right, fine. So that would be a buy. I said, "And then?" He went through and he said, "Now we look at the conditions of here and here and here." And those were met. I said, "So that's a buy." And he kept going. He kept flipping through about four or five pages of all of these filters and rules and things that he had stuck in there to the point where when he got to the last page, I said, "So it's a buy?" Then he looked at me and go, "Oh crap, it's gotten so complicated, I can't even figure out what we're supposed to be doing." So that's the other problem you got. If you make it too complicated, you can't even execute it. And if you, if you have all these conditions, what you're doing is you're winning the the last war, not the next one. You're, you're taking the last data of history and you're saying, "I know how to trade this perfectly, and I would make tons of money and have little risk, and it'd be great." But that has nothing to do with what's coming up next. The more you try to, you know, by force, by parameters and optimizing the heck out of everything to make a perfect system for the the history, the more you've restricted it from being able to react in the future to what is going to be a different condition. Right. Best assured, the market never does the same thing exactly, you know, again. It always throws new wrinkles at you. So you want to keep your your indicators with this minimum, the minimum number of parameters that you can possibly do it. And a lot of times, like the 21 days that I come up with for my Keltners and stuff, I haven't optimized that at all. I picked 21 days because there's 21 trading days in a month, and that's all I care about is about one month. So I just said 21 days. I haven't, I've never run any studies from one to 50 or 100 to figure out that 21 days is the way I want to trade. I picked that because of the amount of trades I want to do and the amount of data I want to observe over a month. That's how I came up with 21 days.
Perfect. Uh, this has been, this has been fantastic. Um, and, and Tom, I just want to give you a time to, I guess, kind of summarize everything you've talked about in this talk. What are the, the key takeaways that you want everybody watching to, to take away from your presentation?
Attack risk rather than defend it against it. Position sizing is far more important than people realize, and it's sort of a freebie if you do it. Reallocating between strategies, the various parts of your portfolio, do it as often as you can stand. It will improve your return to risk ratios. The mental side is more important than your indicators. Quit obsessing over your buy-sell indicators and spend some time on your position sizing and on your mental. Those are far more important than whether you buy using a Keltner or a Donchian or a Bollinger. If you do studies over a long period of time and look at trend following models with same time periods, you'll find they'll all give you roughly the same type of stats. So it's pointless to spend all your life looking for a better buy-sell engine. They all are going to do their roughly the same thing.
Perfect. Well, Tom, thanks again for your time. I really enjoyed this and like I said, I'm gonna enjoy watching this back and taking some notes. So I'm sure everybody watching did as well. Make sure if you're enjoying the stream today, go ahead and leave a like and subscribe to the channel. And, uh, Tom, thanks again. And, and we'll be right back with Late Saturday, um, in, uh, just about five minutes or so. So thanks again, Tom, and, and we'll be right back. Thank you, Richard. [Music]